Mortgage Rates Drop: What to Know Before You Refinance

According to the Mortgage Bankers Association, there has been a surge in mortgage refinance applications as homeowners try to take advantage of a recent drop in mortgage rates. The MBA reports that the average contract interest rate for 30-year fixed-rate mortgages decreased to 4.54 percent with .98 points for loans with a Loan-To-Value of 80% or less. The average contract interest rate for 15-year fixed-rate mortgages decreased to 3.66 percent, with points of 0.97 for loans with an 80% LTV. The effective rate is now at the lowest level since October 8, 2010.

Twice in my career I worked as a mortgage loan officer, and over the years I’ve heard all kinds of misconceptions about how mortgage rates work. I thought I would seize this opportunity to share a few tips I’ve picked up from interviewing Joe Kelly, president of ArcLoan.com, each week on my radio show Talk Credit Radio. (Along with Credit.com, his firm sponsors the program, and Joe shares tips in a weekly mortgage report.)

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Here are four things you should know about mortgage rates:

1. You can get just about any rate you want—if you are willing to pay for it.

While your first question to a mortgage company might be “What’s the rate?,” your second question should be, “What will that rate cost?” You can get practically any rate you want, explains Kelly, but it depends on how much you are willing to pay for it. On any given day there is a range of rates where customers pay 3 or 4 points to lenders in exchange for a lower rate, or where lenders give borrowers a credit toward closing costs in exchange for a higher rate.

My advice: Ask the loan officer to show you several options—with closing costs and without closing costs—and help you figure out what the “breakeven point” on your closing costs will be. In other words when will you recoup those costs and will you be in the home that long?

2. Rates aren’t affected by what you probably think they are.

Most people think that the Fed’s rates have the biggest effect on mortgage rates, but Kelly says that inflation fears have the biggest effect on long-term rates. The Fed’s rates have more impact on short-term rates.

And what goes on outside our borders can be just as important as what goes on within them. “We live in a worldwide economy,” says Joe Kelly, “and what happens around the world does affect our mortgage rates.” Case in point: Michael Fratantoni, MBA’s Vice President of Research and Economics, points to the “ongoing turmoil in the financial markets primarily due to the sovereign debt crisis in Europe” for recent drops in mortgage rates.

My advice: Stop trying to second-guess where rates are going. If rates are good and it makes sense financially to refinance, then just do it.

What to Know Before You Refinance (con’t.) »

3. In today’s environment, locking in rates will take more than a phone call.

If you want to lock in a rate, the majority of lenders are going to require that you fill out an application and provide documentation . You aren’t spending money to do that, Kelly points out, but it does take time. “By the time mainstream press puts out the news that rates have fallen it’s usually a week to ten days after it happens,” warns Kelly. And that means you have to be proactive. The MBA’s says Fratantoni says that, “One factor that may be contributing to this increase (in applications) is that borrowers potentially impacted by impending decreases in the conforming loan limit may be opting to lock in fixed-rate financing now.”

My advice: If you’ll be kicking yourself if rates go up before your loan is closed, submit your application and protect yourself with a rate lock. Then focus on making sure your loan officer has the information he or she needs from you to close your loan.

4. You don’t have to have perfect credit to get a great rate.

Your credit scores are important when it comes to getting the best mortgage rate, of course. But if your credit isn’t perfect, you may have options. FHA loans, for example, offer low rates and allow lower down payments for borrowers with less-than-perfect credit (generally with FICO scores as low as 620).

My advice: Check your credit reports and FICO scores and see if there is anything that may be wrong. But don’t dispute items or make any drastic changes like closing out old accounts without talking to your loan officer first. Those efforts could backfire. Then stop agonizing if your credit isn’t perfect. The rate you get now may be better than what you can get if you wait until your scores improve.

My Final Advice

If I were a gambler, I would have bet interest rates would have been higher than they are today. I would have lost. And that’s the problem—who really knows where mortgage rates are going? Case in point: My colleague Farnoosh Torabi just wrote about how the debt ceiling debate may affect mortgage rates. Kelly expects mortgage rates to be more volatile over the next few weeks depending on the optimism or pessimism over whether the U.S. may go into default.

So if you’ve been procrastinating about refinancing, don’t put it off. I know it’s one of those “I’d rather scrub the oven with a toothbrush” kind of chores, but it may save you a lot of money in the long run. And if you’re successful, you can brag to your neighbors. That’s so much better than hoping they’ll see your clean oven.

Need more convincing? Listen to podcasts of my interviews with Joe Kelly of ArcLoan.com on Talk Credit Radio:

Podcast: What Affects Mortgage Rates

[audio:http://blog.credit.com/wp-content/uploads/2011/04/What_Affects_Mortgage_Rates.mp3|titles=Weekly Mortgage Report: What Affects Mortgage Rates]

Podcast: How Mortgage Rate Locks Work

[audio:http://blog.credit.com/wp-content/uploads/2011/05/Mortgage_Rate_Locks_TCR.mp3|titles=Weekly Mortgage Report: How Mortgage Rate Locks Work]

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Image: Bill Ward, via Flickr